How much lower can we sink? Fund managers see a glimmer of hope

Is this the beginning of the end? Stock markets around the world have experienced some of the most volatile share trading in financial history, sharper even than that witnessed during the great crash of 1929. What experts are now asking is whether we are reaching the point where shares have fallen so far that investors realise there are bargains to be had – signalling the end of the bear market.

Chancellor Alistair Darling hopes so. On Wednesday, he declared that the £500bn rescue of Britain's banks would ensure "stability in the economy". Traders didn't agree: the FTSE 100 fell 5 per cent the day of the announcement, though several banking stocks, including HSBC and the Royal Bank of Scotland, did rally. By the end of the week, the FTSE had fallen by 21 per cent to 3932, the second worst week in its history.

The International Monetary Fund added to the gloom by predicting that the UK economy will contract by 0.1 per cent next year, with unemployment hitting 6 per cent as "the major advanced economies are already in or close to recession".

We asked six leading City fund managers whether things really can get worse, what more the Government should do and if there are any specific sectors or stocks that are worth investing in.

Surprisingly, perhaps, the managers were rather bullish overall, suggesting that those with cash should look at healthcare, energy and defence in the UK, as well as overseas emerging markets portofolios. They all recommended another 1 per cent cut in interest rates, following last week's half-point cut, and all were surprisingly positive that 2009 will show signs of recovery.

Anthony Bolton

President –investments, Fidelity

International

It is always difficult to time markets, but there are plenty of signs that we could be near or at the low. I certainly feel more optimistic than I have done for some time and have recently put more of my own money into the market. Valuations in some sectors – consumer discretionary (non-essential spending) to name but one – are among the lowest I have seen in the last 25 years. High cash weightings in mutual funds and hedge funds, the spike in volatility, the catastrophic headlines in newspapers – these are just some of the signals that we could be coming to the end of the bear market. My advice to investors is to hold their nerve. Too many are sucked in at the top and then shaken out when times get tough. For adventurous investors willing to take a long-term view, these conditions could offer a buying opportunity so long as they stick to well-financed companies.

Innes McKeand

Head of equities, Aegon Asset

Management

Looking forward, the good stocks are BAE Systems and the wider defence sector, Scottish and Southern Energy, and Vodafone. Generally, companies with good balance sheets in sectors like energy and defence are worth a look. Among the banks, we have been favouring HSBC for some time as it is internationally placed and well diversified. It was about time for cuts from the central banks, where diehards have been fighting a losing war. The bailout was necessary, but it has the hallmarks of being done in a rush. It's good for bondholders – it guarantees the return of their money – but for equity investors there is too little detail from Alistair Darling at this stage.

In the short term, it does look like the floor of the crisis has been reached. There is likely to be short-term follow-through on banks, retailers and homebuilders but that might not be sustained. And shares will most probably perform better in 2009 – it is hard to imagine a more stressed environment that the current one.

Chris Watling

Chief executive, Longview Economics

Interest rates will continue to fall beyond the half a percentage point announced last week. I expect to see rates fall to 3 per cent in the coming months, and potentially beyond that. The policy response from the Government has been reasonably quick. Government recapitalisation of banks typically signals the tail-end of banking crises. Even so, the UK will experience deep recession, worse than in core Europe, partly because it's had the biggest housing boom. The property decline will be extreme, with real prices dropping by up to 55 per cent over the next four to five years.

For short-term investors, the overall theme is that sectors which have seen major declines will be the first to rally. It's counter-intuitive, with the riskiest stocks going up most. For the one- to three-year view, I'd say keep away from banks as they will be regulated. Long-term I'd own energy and materials as the strong hand is in the emerging market economies.

Caspar Rock

Deputy chief investment officer, Architas

Healthcare has been underperforming in recent years and is undervalued. Railways and power are also encouraging as they are not subject to discretionary spending. But for any significant market recovery we first need to see a recovery in the financial sector. Money needs to be dribbled into the market rather than trying to call the bottom.

US equities are the first place to invest. They are further ahead in working through this process, having suffered first. And their weaker currency has worked to their advantage as people are buying into the dollar. Sterling, though, is likely to get weaker against the dollar.

"Overseas investment in a mixture of currencies and a diverse portfolio are important. Initially, the US should lead us out of the crisis, but I am a firm believer in the emerging markets to the east. People are not rushing to invest in Russia at the moment, even though it is very cheap, but I've always had confidence in Asia.

Leigh Himsworth

Manager of the Royal London UK Strategic Growth fund

We have not reached the floor of this financial crisis. By the end, I expect only four or five banks and one building society to remain. And the list may be even shorter. Interest cuts by themselves miss the point, and are not feeding through to the user end of debt. But cutting rates savagely, from 4.5 to 3.5 per cent, would be desirable. With lots of small cuts you risk running out of firepower, like in the US.

I am not convinced Mervyn King is the right person to have at the helm of the Bank of England at the moment. Central banks, across Europe, are fighting a losing battle with inflation – it's time for new management.

In terms of investing, there can be great value in leisure companies with cash. Home retail can potentially do very well. And buying distressed debt has the potential for rewards. There are great opportunities for equity markets, and bad news is always good news for someone.

Simon Murphy

Senior portfolio manager, Old Mutual Asset Managers

There are some tremendously interesting value stocks out there at the moment. Take something like BP. It's got a very strong balance sheet, every likelihood the dividend will grow and it pays in dollars – excellent given the strength of the currency. The forecast for 2008 is that BP will pay a dividend of 55 cents a share, and 59 cents in 2009.

The market can clearly get worse. We're still way off the lows of 2003, and there seems to be a view in the market that the Government hasn't done enough.

"We've seen Alistair Darling's announcement, but we need to see how it works in practice.

"In 2009 things will be very, very difficult economically, but it is possible that the stock market could start to recover as it always bottoms out ahead of the economy.

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